Monday, 18 December 2017

There seems to be no end in sight for the bitcoin bubble. This
comes close to the great bubble developments that we have known in history,
including the tulip bulb bubble in sixteenth century Holland, the South Sea
bubble in the eighteenth century, and many others. These bubbles and today’s
bitcoin bubble are always driven by an excessive optimism about the value of some
asset and an expectation that the price of that asset will continue to rise in
the distant future. But each time these bubbles came to an end and the prices
collapsed.

The expectation that the price of bitcoins will continue to
rise in the distant future has a lot to do with the belief of many people that
the bitcoin, and other "cryptocurrencies", are the money of the
future. Nothing could be farther from the truth. In fact, the bitcoin is an
archaic currency like gold used to be. Archaic currencies are created by using
scarce production factors. Gold had to be digged deep in the ground by using a
lot of labor and machinery. Keynes called gold an "barbaric relic".

The same can be said of the bitcoin. Bitcoins are made
("mined" as it is called in the bitcoin terminology by analogy with
gold) by using large amounts of computing power. The computers needed to mine
bitcoins use a lot of electricity and thus large amounts of scarce energy
sources (crude oil, coal nuclear energy, renewable energy sources). According
to some estimates, the energy needed to produce bitcoins for one year is
equivalent to the energy consumption of a country like Denmark. A phenomenal
cost, if we also take into account the external costs, such as the CO2
emissions, associated with the production of electricity.

Although the bitcoin is perceived as the currency of the
future, it is in fact, like gold, a currency of the past. The contrast with
modern money is striking. Modern money is also called "fiat money"
because it is made from nothing. Of course, the production of paper money costs
a lot, but we use less and less of it. Instead we use more and more electronic
money by making payments with debit and credit cards. Electronic money is
produced with minimal use of scarce resources. As the cost of communication continues
to decrease, the use of electronic money will become even cheaper in terms of
resources needed to produce it. In this sense electronic money, not bitcoin, is
the money of the future.

It is possible that technological innovations lead to a
further decline in the resource cost of mining bitcoins. But surely, today the
handicap of bitcoins in providing a resource-cheap-form of money compares very
badly with the existing forms of electronic money that can be produced with
small fractions of the cost of bitcoins.

There are, however, other and possibly more serious reasons
why bitcoins and other cryptocurrencies have no future as means of payments and
units of account, the two essential functions of money. First, as the supply of
bitcoins is fixed asymptotically, its generalized use as a means of payment
would lead to permanent deflation (negative inflation). The reason is that the
world economy is growing and in need of an increasing supply of money to make
growing transactions possible. The only way this can be dealt with in a bitcoin
economy is by declining bitcoin prices of goods and services, i.e. negative
inflation. The quantity theory of money tells us that it could also be dealt
with by increasing the velocity with which bitcoins are used, but there is a
limit to that possibility. Thus a bitcoin economy would face permanent
deflation, not a very attractive situation.

Capitalism is based on entrepreneurs taking risky initiatives.
These entrepreneurs are usually of the optimistic type. They expect increasing
sales in the future. It is the optimism that drives the dynamics of capitalism.
In a bitcoin economy where prices are declining every year this optimism is
negatively affected. Price declines lead consumers to postpone their purchases
and investors to postpone their projects. It is a world with less optimism and
probably less growth.

In order to avoid this problem, cryptocurrencies should
provide for a protocol that allows the supply of these currencies to increase
in the steady state. A rule à la Friedman where the supply of the currency is
subject to a constant yearly growth rate would do the trick. This is not the
case of the bitcoin, making this cryptocurrency particularly unfit to function
as the money of the future.

There is a second and even more serious reason why the bitcoin
is not suitable as a currency. In fact it would be a dangerous currency. If the
world turns to bitcoins, banks will start lending bitcoins to households and
firms in need of credit. But banking is a risky business. The problem is that
as the supply of bitcoins will be fixed, there will be no lender of last (LoLR)
support in times of banking crises. And these are certain to occur. Even if the
supply of bitcoins or of other cryptocurrencies could be subjected to a
constant Friedman growth rule it would not solve this problem.

The LoLR support presupposes that the central banks can create
money out of nothing. In a monetary system where the stock of money is fixed
(or growing at a constant rate), there is no such LoLR possible. This leads to
the prospect of regular banking crises that will lead to failing banks and
further negative domino effects on the economy. This is exactly what we
observed during the heydays of the gold standard, which was characterized by
frequent banking crises leading to deep recessions and much misery. Again, the
bitcoin standard, like the gold standard, is something of the past, not of the
future.

More generally, the problem of a bitcoin economy is that in
times of financial crisis, which one can be sure will arise again, there is a
generalized flight into liquidity. That’s when a central bank is needed to
provide all the liquidity needed. In its absence, individuals scrambling for
liquidity sell assets, leading to asset deflation and insolvency of many. A bitcoin
economy does not have this flexibility and therefore will not withstand
financial crises. A bitcoin economy will not last in a capitalistic system,
which regularly generates financial crises.

Today the bitcoin bubble is sustained by the belief that this
cryptocurrency has intrinsic value; a value that derives from the belief that
it is the money of the future which in addition will be available inlimited quantities.When enough people come to the realization
that bitcoins and other cryptocurrencies have no future as means of payments, it
will be clear that the bitcoin has no intrinsic value, that the “emperor has no
clothes”. Then the bitcoin bubble will burst and there will be a lot of
handwringing of the speculators who have stepped into the bubble too late.

All this does not mean that the blockchain technology used in
cryptocurrencies may not have other important applications. For example, the
storage of large data using blockchain technology will make it possible to do
so in a decentralized way, opening up a vast array of new applications. The
current design of the bitcoin, however, makes it unsuitable as a currency for
the future.

The idea that the bitcoin is the currency of the future is
very popular with market fundamentalists. These are wildly enthusiastic about
the bitcoin because it is created entirely outside the control of central
banks. The latter are seen as the source of much evil. The fiat money they
create will, according to those fundamentalists, lead to hyperinflation and
other disasters.

There is indeed a potential problem with fiat money. Because
its production is so cheap, there is the danger that too much of it is produced.
That then leads to inflation. However, since the 1990s, many central banks have
followed a policy of strict inflation targeting. And that has proved very
successful. It has ensured that annual inflation has remained close to 2
percent in the last 30 years in most industrialized countries. In the US, for
example, average yearly inflation was 2.35% from 1990 to 2017.That will not convince the market fundamentalists.
They continue to believe that the moment of hyperinflation has yet to come. In
addition, for many of them bitcoin has become the symbol of a free market world.
A world in which markets unhampered by government controls create great wealth
for many. It is also a world in which markets have self-regulating features
that prevent financial crises from occurring. Indeed in such a fictional world
the bitcoin would provide the anchor of stability. Not in the real world.

Thursday, 19 October 2017

The new information technologies have created a whole range of
companies that have become extremely profitable. The most successful ones are in
the list of the top ten most valuable companies in the world. Valuable here
means the monetary value of all outstanding shares of these companies; their
capitalization as economists call it.

Alphabet (better known as Google), Amazon, Microsoft,
Facebook, Alibaba, are each worth $ 400 billion or more in the stock markets. They
produce hardly anything tangible. They "make" information. These
information companies are extremely successful. They also give rise to new
problems.

The most salient characteristics of information companies is
that the marginal cost of the information they produce is zero. To make a YouTube
movie you have some fixed costs, such as a camera, a laptop and an Internet
connection. But once the video has been made, you can broadcast it without
increasing costs. Whether there are 10, 100 or 100,000 viewers of the movie
does not change the costs of the movie producer anymore. The marginal cost (the
cost of one additional unit viewed by someone) is zero.

That’s not all. The more viewers the moviemaker reaches, the
more valuable his YouTube movie becomes. If he/she reaches an audience of, say,
1 million viewers, advertisers will be interested and will be willing to pay
the creator of the video for placing ads. The more viewers there are, the more
the advertiser is willing to pay. The YouTube producer thus produces something
that has a marginal cost equal to zero and a marginal revenue that increases
with the number of viewers. The more people reached with the movie, the richer the
moviemaker gets without having to do something special.

Such a business model creates a number of problems. The first one
is that information companies create a lot of economic value without the use of
many production factors. You hardly need employees to generate a lot of income.
Facebook with a capitalization of $ 400 billion employs 21,000 people. Walmart,
which has a capitalization of 220 billion, has 2.1 million employees. Thus Facebook
that is almost twice as large in terms of capitalization than Walmart counts
only one percent of the number of employees of the latter. This means that a
very high level of economic value is distributed to very few people. An
inequality time bomb.

A second problem has to do with the fact that the people who
join such an information platform (for example Facebook) actually give away
information about themselves for free. This information becomes more valuable
as more people join the platform. The big data on private information makes it
possible to place highly targeted ads. The dream of all advertisers.

So companies like Facebook produce information that generates
a lot of revenue using as ”raw material” the private information that they
acquire for free from their users. They are great money machines generating
huge wealth that hardly has to be shared and can be kept by the happy few in
these companies.

Such a situation is untenable. More and more economic value is
distributed to less and less people. What can be done about this? Here is my
proposal. Facebook realized $ 26 billion in advertising revenue in 2016. This
revenue was actually made possible thanks to the free "raw material"
of the information provided by Facebook users. The government could apply a tax
of 50%, for example, assuming that at least half of that income is due to the
free information. That means 13 billion dollars. There are now about 1.23
billion Facebook users. So that means (rounded) $ 10 per user and per year.
That seems to me to be a good estimate of the yearly value of the information
provided by the individual user to Facebook.

So my proposal becomes: a 10-dollar tax per user to be paid by
Facebook. Zuckerberg will be a little less rich after this tax, but will still
have a lot of money left.

There are many issues with such a proposal. It should
preferably (but not necessarily) be coordinated internationally. Not an easy
thing. There is also the issue of what the government should do with the
revenue. One possibility would be to return 10 dollars to the Facebook users
every year. Alternatively, the government could use the revenue to invest in
education, the environment or sustainable energy.

I think these are separate issues that can be
resolved and that do not stand in the way to tax Facebook and other information
companies (e.g. Google, Amazon) that use private information freely and
transform this into a fabulous money machine that benefits only a few.

Wednesday, 4 October 2017

The British Prime Minister, David Cameron, will not enter the
history books as an enlightened leader. However, when in 2014 he had to decide
to allow the Scottish referendum, he used his brain and opened the door for the
referendum. It took place on September 18, 2014. Only 45% of the Scotts voted for
independence.

The contrast with the referendum in Catalonia could not be
greater. The Spanish Prime Minister Rajoy stupidly decided to use violence to
prevent a referendum in Catalonia, despite the fact that a peaceful referendum
would most probably have led to a similar outcome as in Scotland. Spain and
Catalonia are now on collision course; a situation that could have been avoided
if the Spanish Prime Minister had not suffered from dogmatism and a degree of
nationalism equaling in intensity the Catalan version.

The Catalan nationalists now have been given a fantastic boost
thanks to Rajoy's stupidity. The TV images of Spanish robotic police officers hitting
old and young to prevent them from voting create a perception of an oppressed
people fighting for their freedom.

Nothing could be further from reality. The Catalans are not an
oppressed people. They have a high degree of autonomy. They can organize their
own education in their own language. No obstacles exist for the cultural
development of Catalonia. It is the most prosperous region of Spain. Barcelona
is a bustling city like no other in Spain. The Catalans are heard at the
regional, national and European level. The image of an oppressed people is ludicrous.

Catalan nationalism is of the same kind as British nationalism
that led to Brexit. It is based on a number of myths.

The first myth is that there is an external enemy. For the
Brexiteers these are the European authorities (the European Commission, the
European Court, etc.), which impose their arbitrary will on Britain. For the
Catalan nationalists the enemy is the Spanish government oppressing the Catalan
people.

The second myth is that the people who fight for their
independence have a clearly defined identity. The task of national politicians
is to listen to the will of the people. There can be only one voice. There is
no room for different and opposing voices. The British government is now
calling for patriotism. The opponents of Brexit are not true patriots.

The third myth is that independence will generate unsuspected
economic prosperity. When the people “take back control” they will have the
tools to achieve maximum economic prosperity. That is today the argument of Brexiteers
like Boris Johnson. When Brexit will be realized (preferably as soon as
possible), Britain will have achieved its true destiny. "Global
Britain" will take over from the protectionist EU. Great Britain will merrily
conclude free trade agreements with the rest of the world, which will lead to
unprecedented prosperity. A similar argument of more prosperity for an
independent Catalonia is heard from Catalan nationalists today.

The reality is that globalization undermines national
sovereignty. This happens in many ways. One example. Large multinationals blackmail
national governments in Europe, with the result that corporate taxes decline
almost everywhere. In no country, however, is there a will of the people in
favour of reducing these taxes. Yet this is the outcome because governments act
as national entities. Were they to decide jointly on corporate taxes in Europe,
multinationals would be unable to blackmail these governments and there would
be no creeping decline in corporate taxes.

Another example. International trade today is not influenced so
much by tariffs but by non-tariff barriers. Large countries decide about
standards and the regulatory environment that will govern trade. There are now
essentially three countries, the US, the EU and China that can aspire to decide
about the nature of these standards and rules. The other countries play no role
in this game. Thus when Great Britain exits from the EU so as to gain more
sovereignty (“to take back control”), this gain is only formal. In fact its
real sovereignty declines. Obviously the same holds for Catalonia.

We arrive at the following paradox in a globalized world: when
nationalists pursue more formal
sovereignty they achieve less real
sovereignty of the people. They want to take back control and they end up with
less control. That’s what Great Britain will end up with. That’s also what the
Catalan nationalists will achieve if they pursue their nationalistic dreams.

This paradox has a corollary: when countries in
Europe renounce formal sovereignty this
leads to more real sovereignty of the
peoples of Europe.

Tuesday, 28 March 2017

The British government has officially started the
"divorce" procedure from the European Union. This procedure must be
completed within two years. In April 2019 the UK will cease to be a member of
the EU.

Most divorces are painful affairs mainly because an agreement
has to be found on who pays whom. The same will be true for the divorce of
Great Britain and the European Union. The European Union intends to present a stiff
bill to the British Government. According to some estimates this could go up to
60 billion euros. The hard line in the Conservative government of Theresa May does
not want to pay a cent. These are the people who during the referendum campaign
promised that Brexit would create massive budgetary means to be used to save
the National Health Service from bankruptcy.

Between 0 and 60 billion there are many numbers waiting for a
possible compromise. But the latter will be very difficult because the hard
camp in the British government considers each number above 0 as an act of
treason to the British people.

The Brexit Ministers continue to repeat that a new trade
agreement between the UK and the EU is easy stuff and can be completed in two
years, at least if the Europeans are "reasonable". If they are, they
will see that it is in their own interest to meet British demands. If they
don’t it will be proof of their vindictiveness.

The British demands are derived from the very successful
referendum slogan: "to take back control of our borders, our laws and our
money." This means full control over immigration; the end of the jurisdiction
of the European Court of Justice on British soil; and not a penny more for
Europe. The prime minister has made it clear that the first two demands cannot
be negotiated away. About the third one a compromise is possible but no one
knows how much negotiating space the British prime minister has.

These UK demands imply that the UK excludes itself from the
internal market. The UK government, as the representative of a fully sovereign
nation, will therefore have to negotiate a new trade agreement. And like any
trade agreement this will drag on for years. As a result, one can say with
great certainty that in April 2019 there will be no trade agreement between the
UK and the EU.

What is striking in this drama is that under the spell of
nationalism the British government has based its policies on a big illusion. It
is the illusion that, as in the past when Britain ruled the waves, it can be
fully sovereign and freely trade with the rest of the world without having to
accept rules that are decided elsewhere. This was possible when Britain was the
master of the world and decided about the rules that the other nations would
have to accept to trade. Today, however, Britain is a small country. Its GDP is
only 15% of the EU’s GDP. If this small country wants to trade with the
European Union it will have to accept the rules that are decided on the
European continent, not in Britain. If it wants to trade with the rest of the
world, it will also have to accept rules drawn up elsewhere. It will be a
painful awakening for the British who have been misled by their government into
believing that they can have free trade and full sovereignty.

For the EU Brexit creates a window of opportunities. When the
British joined the European Community in 1974 their intention was not to make
Europe stronger. On the contrary, the British strategy was to weaken the
European integration effort from inside. Since their accession the British
governments have opposed attempts to apply majority rule in the union, and
instead have tried to force an inter-governmental approach where each country
maintains a veto power. The British entered the European house not to
strengthen it, but to halt its further construction and even to deconstruct it.

The fact that Britain now leaves the house creates new
possibilities to take steps towards further integration. In the tax field, for
example. This is an area where, at the
insistence of Britain (but not only Britain), veto power of national
governments has been maintained. As a result, multinational companies have
exploited the lack of coordination in setting corporate income taxes to
blackmail individual governments. This has led to a race to the bottom where
major multinationals pay almost no taxes, although they profit from public
goods provided by European governments. This problem can only be solved by
jointly deciding about corporate income taxes. This will not be easy, as there
are other countries that benefit from not having a common approach to taxation
(Ireland, Luxembourg). But at least the major obstacle to a common policy will
have been removed.

Thus the decision by the UK government to leave the European
house should be welcomed by EU-member states instead of being deplored. It
creates a window of opportunities for further integration on the European
continent. This window of opportunities, however, can only be exploited if the
EU makes her negotiating position clear. This should be one in which the EU
recognizes that the UK wants to be fully sovereign. The EU therefore should
make it clear that this makes UK access to the internal market impossible. This
is not a choice of the EU but the logical consequence of the UK’s quest for
full sovereignty.

Business lobbies both in the UK and the EU will
push for a different outcome. One in which the UK will be allowed to enjoy
exceptions to the rules governing the internal market while maintaining access
to it. The EU should resist these lobbying efforts. Failing to do so will open
the door for other nations to do similar “cherry-picking”. This would undermine
the integrity of the union and would contribute to its disintegration.